Crisis in Venezuela – A lesson from Saudi Arabia

President Nicolás Maduro has implemented measures such as shortened workday, increased federal holidays and scheduled blackouts in an attempt to reduce energy consumption across the country amidst a nationwide energy crisis brought on by severe drought. However, the energy crisis is only a microcosm of the Venezuelan economy and regardless of oil’s recovery, the country will continue to be plagued by cyclical misfortune unless meaningful reform is instituted. Venezuela should look to the east and be inspired by the reforms that fellow OPEC member Saudi Arabia is beginning to implement in order to help the situation at home.

This past week Venezuela’s government announced that it will turn off the country’s electricity supply in the most populous states for four hours daily over the next 40 days, in an effort to deal with a severe power shortage stemming from a prolonged drought. These power cuts are just one of a number of measures announced in recent weeks by President Nicolás Maduro to deal with the country’s energy crisis, which also include giving public workers Fridays off, declaring a set of new national holidays, and even shifting the country’s time zone.

The nation’s energy issues are merely one problem in Venezuela’s much broader and ongoing economic crisis, which in addition to a lack of basic services includes rampant inflation, growing political tension, and increasing social inequality. If the situation does not improve, President Maduro’s tenure could soon be coming to an end.

Within the past week multiple efforts have been undertaken by Venezuela’s opposition-controlled National Assembly that are focused on streamlining the country’s referendum process, which allows for an elected official – such as President Maduro – to be recalled after half of their term is served given a requisite number of votes. Although the Supreme Court, which includes many supporters of President Maduro, may block these measures, the mere presence of these actions by the legislature is a testament to the broad disapproval of the President’s handling of the crisis. With the economic situation continuing to worsen, and a reported two-thirds of Venezuelan’s who feel that Maduro should not be reelected, the country may be on the verge of a significant change in leadership.

How did we get here?

Since Hugo Chavez’s death in early 2013, Maduro has managed the country in line with the established socialist paradigm of his predecessor, aptly named ‘Chavism’. It consists of industry nationalization coupled with social welfare policies in an attempt to solicit political support from the people in return for subsidized goods and services. Venezuela, like many other petro-states has provided basic services and reduced utility costs in return for support at the polls. In booming times, the country has essentially given away oil in return for both domestic and international support, however, as global oil prices have fallen, these policies are placing a serious strain on the economy.

As a nation whose livelihood depends almost exclusively on oil, with the world’s largest proven oil reserves and some 95% of export revenues coming from the industry, the country’s leadership has not managed to develop other industries such as agriculture and manufacturing at times when government coffers were full. Further, Venezuela has been slow in adjusting government policy to declines in global oil prices, only recently decreasing its subsidies on gas and removing some controls on the country’s currency.

Overall, the lack of government foresight coupled with a failure to develop a diversified revenue stream has put Venezuela in its current predicament. As global oil prices have fallen over the last year and continue to stagnate in the $40 per barrel range, Venezuela is now on the brink of disaster.

A lesson from the Saudis

Early this week, Saudi Arabia put forth a comprehensive plan to diversify its own economy in light of the declining global oil prices and the country’s historic dependence upon the commodity. Specifically, Saudi Arabia is looking to increase non-oil exports, reversing the negative effects that years of a single pronged approach to economic prosperity have created. Further, Saudi Arabia plans to continue to develop its sovereign wealth fund to increase the country’s returns in a post-oil era.

As part of this plan, the Saudi government is taking efforts toward privatization and is planning to sell a stake of its state oil giant Saudi Aramco, valued at more than $2 trillion (5%), in an initial public offering (IPO). At a minimum, these efforts are a credible plan to inject flexibility into the Saudi economy and after 17 years of Chavism, Venezuela needs to follow their lead. There are certainly considerable differences between the two countries and their systems of government, however, that doesn’t mean that the principles of industry diversification and increased capitalism can’t foster in a much more competitive economy for Venezuela.

Take PDVSA (Petróleos de Venezuela, S.A.), Venezuela’s version of Saudi Aramco and a government-controlled company that has been at the helm of the country’s nationalized oil & gas sector since 1976. As the world’s fifth largest oil exporter, PDVSA has historically provided the country with substantial funding for social welfare programs, but given the inefficiency of those programs as evidenced by the current crisis, Venezuela – borrowing the Saudi’s plan – should look to reallocate the company’s revenue toward a more impactful sovereign wealth fund that could benefit Venezuela in the long run.

Take the example of the Investment Fund for Macroeconomic Stabilization (FEM) which previously existed in Venezuela. It served as a savings account to offset and capitalize on volatility in global oil pricee, in essence a forward looking fund meant to deal with the situation Venezuela has today. The country’s leadership should revisit the principles that served as the creative force behind such measures in an order to put the economy back on track.

The way forward

The Venezuelan economy is certainly overexposed to risk, both politically and economically. Without substantial reform, in line with the diversification and privatization efforts made by Saudi Arabia, Venezuela will never get out from underneath its crumbling economy by any way other than a precipitous increase in oil prices, which is anything but a certainty. Continued efforts to reduce government subsidies and to allow the country’s currency to move with the market will begin to create some levels of workable capital for the government to start instituting basic structural reforms. As Venezuelan’s continue to voice their disapproval at the polls, time is running out for President Maduro, who needs to act now or face what is almost a guaranteed tumultuous second half of his presidency and a possible removal from office.

About Author

Eric Simmons is a strategist at a leading multinational financial services corporation in New York. He received his BA in Economics & Government from Colby College, prior to his current role he has worked in Economic Consulting in Washington D.C., and at the United States Senate. All views expressed are solely those of Eric and do not represent the views or opinions of his employer.